16/04/20

GREEN BONDS – WHAT COULD POSSIBLY GO WRONG?

The first principle of investment is there must be a return of principle before there is a return on principle.
But a principle is not the same as an immutable law—especially when it comes to human beings. What someone expects investment to achieve may mean vastly different things to individual people and groups. For some, it’s money while others hope to buy peer respect, virtue, or to go along with the crowd.

WE COULD BE HEROES

Gustave Le Bon, a French Philosopher, wrote The Crowd: A Study of the Popular Mind. He observed. “…nothing is more fatal to a people than the mania for great reforms, however excellent these reforms may appear theoretically.” … “The parts played by the unconscious in all our acts is immense, and that played by reason very small”.

The realisation that people invest in a wide variety of reasons is now called behavioural economics. Long before that classification became of fashion, people just called it salesmanship and marketing---or even persuasion and propaganda. It recognises that human beings make decisions based on a mixture of facts and emotions. The stuff that makes up stories and gets masses of people to make what they think is an individual choice.

Let me tell you a few stories about Green financing.

Power Technology (November 6, 2019) in Road to nowhere: great solar disappointments, reported: “From a solar road in France to a $200 bn solar facility in Saudi Arabia, the solar sector has its fair share of failed and struggling projects”.

Bloomberg Green (February 5, 2020) Wind Turbine Blades Can’t Be Recycled, So They’re Piling Up IN Landfills, states, “Companies are searching for ways to deal with the tens of thousands of blades that have reached the end of their lives”. “Built to withstand hurricane-force winds, the blades can’t be easily crushed, recycled, or repurposed”. “The wind turbine blade will be there, ultimately forever”.

The Crescent Dunes Solar Energy Project in Tonopah, Nevada, a 110-megawatt solar thermal energy facility failed. The project started in 2011, began operations in 2015 and was shut down in April 2019. It lost approximately US$1 billion.

Making a battery for an electric vehicle is an enormously complicated process. And expensive. Disposing of lithium batteries is even a more significant challenge. Damaged batteries, say from an electric car involved in an accident, are considered highly dangerous. According to the Institute for Energy Research, The Afterlife of Electric Vehicles: Battery Recycling and Repurposing (May 6, 2019),” …the cost of extraction of lithium from old batteries is that it is 5 times more expensive than mined lithium”. While reusing old batteries, after being broken down, tested, and repackaged, is possible, the costs of repurposing and potential legal liability is a problem.

Green projects start with high hopes, and then reality happens.

The concept of Green is generally pleasing and meaningful to people. It evokes pleasant memories and feelings. Labeling an investment is a sales trick, a propaganda technique, a trigger, to get potential buyers to subconsciously connect the label or symbol to the product or service. Words and symbols have meanings that invoke emotions. Calling an investment ‘Green’ is highly persuasive in connecting thoughts of the goodness of nature and the virtue of saving the planet with a physical investment. It diverts attention from the fact that the investment costs money and is a risk of loss.

A common form of investing in capital intense investments like energy generation is by way of bonds. When choosing to buy Green bonds, investors are buying into a theme, a concept, or label which wraps a physical investment. Green bonds are considered fixed-income instruments specifically earmarked to raise money for climate and environment projects. Like any other method of financing a venture, the ultimate risk is that the Green project defaults.

But what exactly are investors buying? Failure to repay a bond’s principle and interest is the definition of a financial default. But is it a default if an investment goes Brown instead of being Green?

Bill Sokol, the ETF product manager at VanEck Vectors Green Bond ETF, says that Green bonds are a subset of the broader ESG movement. Green projects run the gamut from alternative energy and sustainable water to pollution control and climate change solutions. There is a lack of standardisation of what constitutes a “green bond.”

The Climate Bonds Initiative (CBI) is a popular go-to source for certification standards on climate-related bonds. At the same time, the Green Bond Principles, an effort of the International Capital Market Association, provides guidelines for green bond issuers and offers information for investors. (Financial Advisor, Do Green Bond ETFs Produce Green Returns? September 5, 2019). The CBI states that its Climate Bonds Standards and Certification Scheme is a “labeling scheme for bonds. Rigorous scientific criteria ensure that it is consistent with the 2 degrees Celsius warming limit in the Paris Agreement…to prioritize investment which genuinely contributes to addressing change”.

A Pulitzer Prize-winning, non-profit, non-partisan news organisation InsideClimate News, July 1, 2019, How Much Global Warming Is Fossil Fuel Infrastructure Locking In? reports on a new study by Ken Caldeira, an atmospheric scientist at the Carnegie Institution for Science. The study says that to stay within the Paris climate goals, coal and other fossil fuel power plants would have to shut down early or be retrofitted for carbon capture.

The Paris goals were established based on the validity of computer modelling. It has become an article of faith, in effect a secular religion, that CO2 emissions from fossil fuels are the predominant cause of global warming. Which leads to an existential threat to the existence of all living creatures on Earth. Anyone who doubts the climate models is disparaged and dismissed as “Climate Deniers.” That argument is an ad hominin attack and a classic fallacy of logic. Saying that a computer model is settled science is a bald-faced lie.

No one denies that the climate changes. Everyone agrees that clean water, world-wide sanitation, garbage-free cities and oceans, and reducing poverty are good things. But whatever needs to be done to meet these concerns, eliminating fossil fuel compounds is not one of them.

If Green bond investments will not reduce CO2 in the atmosphere and stop the world from warming, then isn’t that a default?

The recent expansion of wind, solar, mass transportation electric vehicles, and lithium battery projects, which generate so-called sustainable energy to combat climate change, is not because of free-market demands. Going Green is a creature dependent for existence on government financial subsidies, payments, grants, tax exemptions, credits, exclusions, and all manner of coercive legislative and regulatory actions forcing the public to buy into climate change and Green sustainable energy. While going Green is understandable in the emotional arena of politics — campaign contributions and special interest voting groups - its factual basis is at best highly doubtful and debatable, and at worst a fraud.

The primary support for the global warming-climate-change-sustainable-energy movement is based on computer models. Computer models involving energy analysis is not just a recent occurrence. In 1979, “Energy Future, Report Of The Energy Project At The Harvard Business School” was published. An Appendix entitled Limits to Models informs us that “As a final note, we would like to reiterate what we said at the outset of this Appendix: namely, that models can be extremely useful in the formulation of energy policy….they allow decision-makers to test their ideas ‘on paper’ without manipulating the actual system. But a model is not reality”. (Emphasis theirs).

Think of it this way. The best weather forecast possible today can go out to 14 days. After that, all bets are off. The Paris Agreement and all the other anti-fossil fuel climate policies are based on the “settled science” of computer models, using past data. (But past performance is no guarantee of future results.

The problem is two-fold: first, using a computer model as “settled science” is absurd; and second, the computer models presumably used to develop the Paris Agreement 2-degree Celsius standard are not valid.

Similar to the comment made by the Harvard Energy Report, the Nongovernmental Panel on Climate Change, Why Scientist Disagree About Global Warming, tells us that, ”The articles and surveys most commonly cited as showing support for a ‘scientific consensus’ in favor of the catastrophic human-made global warming hypothesis are without exception methodologically flawed and often deliberately misleading.”; “…No survey or study is showing ‘consensus’ on the most important scientific issues in the climate change debate.” ; ”Fundamental uncertainties arise from insufficient observational evidence, disagreement over how to interpret data, and how to set the parameters of models”. The NIPCC Report discusses at length the flawed projection, false postulates, and unreliable circumstantial evidence.

What Other Problems Arise That Could Cause A Green Bond To Green Default?

A transition to 100 per cent non-hydrocarbon electricity by 2050 would require a US grid construction program that is 14-fold bigger than the total build-out rate of the last 50 years. After going into trillions of dollars of additional debt because of coronavirus, there is zero chance of Congress spending vast additional sums on climate change. Politicians will get no additional votes, there will be no increase in campaign contributions and no government will likely have enough borrowing power left.

Wind and solar power sources have been around for thousands of years in one form or another. In the last decade or two, there has been a dramatic improvement in efficiency and reduction of costs. The road to additional improvements is what mathematicians call asymptote. In economic terms, improvements are subject to a law of diminishing returns, according to Mark Mills, in his report “The NEW ENERGY ECONOMY”: AN EXERCISE IN MAGICAL THINKING (Manhattan Institute March 2019). Wind, solar, and battery tech will improve but only incrementally within limits.

Mills tells us that “physics-constrained limits are unequivocal. Solar arrays can’t move more photons than those that arrive from the sun. Wind turbines can’t extract more energy than exists in the kinetic flows of moving air. Batteries are bound by the physical chemistry of the molecules chosen”.

According to Mills, for both wind and solar, all the underlying vital components—concrete steel and fiberglass for wind; and silicon, copper, and glass for solar—are already well down the asymptotic cost curves in their domains.

The maximum potential energy in oil molecules is about 1500 per cent greater, pound for pound, than the maximum in lithium chemistry. The primary minerals needed to produce a 1000-pound lithium battery include lithium, cobalt, manganese, carbon, nickel, copper, and aluminum. The accessing of the necessary minerals for one battery entails mining, moving, and processing 500,000 pounds of raw materials.

Mills states, “It takes the energy equivalent of 100 barrels of oil to fabricate one battery capable of storing the energy contained in a single barrel of oil”. According to Mills, US$200,000 of Tesla batteries, which collectively weigh over 20,000 pounds, are needed to store the energy equivalent of one barrel of oil. A barrel of oil weighs 300 pounds and can be stored in a $20 tank. … “…the cost to store energy in grid-scale batteries is about 200-fold more than the cost to store natural gas to generate electricity when needed”. “The issue with wind and solar power comes down to a simple point: their usefulness is impractical on a national scale as a major source for generating electricity”.

If it is remotely possible to stop the climate from changing by eliminating the use of fossil fuels, can the world’s governments get together and coordinate their energy policies? Don’t be silly. Nations are engaged in hostile competition, right on the edge of war, over oil and natural gas sources. Assuring themselves ready access and reserves of fossil fuel is, quite literally, a matter of national survival.

The countries of the world, members of the United Nations, are led by an agglomeration of dictators, despots, thugs, and incompetents. The United States may be in the best position when it comes to leadership. The idea that all the countries that are signatories to the Paris Agreement will work purposefully in harmony to benefit all humanity is utterly preposterous. That is the reality.

The problem of investing in Green bonds is already playing out in the marketplace. The major money management investors, such as pension funds and insurance companies, hesitate to do anything more than make minuscule allocations for Green projects—lots of talks but, in context, little action relative to the depth and breadth of the investment markets.

The financial industry may talk like they are going Green, but they are reluctant to put money on Green financial products. What’s more, the professional investment industry predominately backs corporate management on rejecting shareholder proposals from activist Green environmental anti-fossil fuel shareholder groups.

The money managers and corporate directors who can buy billions of dollars of investments have fiduciary obligations. They invest other people's money to fulfill the first principle of investing. Whether consciously or subconsciously, they understand that the dreams of Green, stopping the climate from changing, are destined from the outset to fail in the end.

About the Author

Denis KleinfeldDenis Kleinfeld is highly regarded as a lawyer, teacher and author. His private legal practice, Kleinfeld Legal Advisors, is located in North Miami Beach Florida. He is an Adjunct Professor at the LLM Wealth and Risk Management Program, Texas A & M School of Law. His private practice focuses on strategy planning of domestic and international tax, legal, financial, matters involving the wealth and risk management for private clients and private businesses.
He is co-author of the two-volume treatise, “Practical International Tax Planning,” published by Practicing Law Institute. He is the contributing author on Foreign Trusts published in “Administration of Trusts in Florida” by The Florida Bar and authored chapters for the American Bar Association’s in “Asset Protection Strategies: Wealth Preservation Planning with Domestic and Offshore Entities Vols. I and II.” He is a contributing author to the “LexisNexis Guide to FATCA”.